I’ve been waiting for this week for a while, and am a bit disappointed (although I can’t say I’m shocked) to see the following press release from Microsoft (MSFT):

“Microsoft Corp. today announced that its board of directors declared a quarterly dividend of $0.23 per share, reflecting a 3 cent or 15 percent increase over the previous quarter’s dividend. The dividend is payable December 13, 2012 to shareholders of record on November 15, 2012. The ex-dividend date will be November 13, 2012.”

The 15% increase is in-line with what was expected from the financial community; personally, I was hoping for a 25% increase to match the percentage move in 2011. Here’s a look at the dividend payout and the increase per year since the company started paying dividends (excluding the special dividend from July 2004):

YEAR

PAYOUT ($)

INCREASE

FY 2003

$0.08

-

FY 2004

$0.16

100%

FY 2005

$0.32

100%

FY 2006

$0.35

9.4%

FY 2007

$0.40

14.3%

FY 2008

$0.44

10%

FY 2009

$0.52

18.2%

FY 2010

$0.52

0%

FY 2011

$0.64

23.1%

FY 2012

$0.80

25%

FY 2013 (expected)

$0.92

15%

On the company’s non-GAAP FY2012 earnings per share of $2.78 (which excludes the impairment charge tied to the 2007 acquisition of aQuantive), the expected FY2013 dividend of $0.92 per share equals a trailing payout ratio of 33%. With 8.39 billion diluted shares outstanding at year end, the $0.92 payout has an estimated dollar cost of $7.71 billion (though it will likely end up a bit lower due to repurchase activity throughout the year); with the stock trading at just over $31, the dividend yield is right around 2.96%.

I continue to believe that Microsoft’s aversion to debt issuance is misguided; with a net cash position of $53 billion-plus at June 30th, 2012 (or roughly $6.30/share), the company could issue $8-10 billion in debt, buyback 2-3% of its outstanding shares (in addition to what was planned for the year), and require less capital to fund an equal sized dividend in the process (an $8B repurchase at current prices would cut the dividend payout by $240M in the first year). Why they are letting the cash position continue to build is beyond me - I'm not asking for an "all-in" strategy, there's simply no clear reason why returns to shareholders should lag free cash flow by such a wide margin (this all assumes that management agrees that the stock is undervalued - which I would assume is true based on the things they've said in the past few months).

Microsoft appeared to be heading in that direction in fiscal 2011, when the company repurchased more than $11.5 billion in common stock at an average price of $25.72 per share, and paid $5 billion-plus in dividends. I believe that Mr. Ballmer should stop talking about how “epic” this year will be, and instead suggest the implementation of a material buyback and/or dividend - as opposed to relatively small, in comparison to FCF, $11.4 billion spent between the two activities in fiscal 2012.

The irony of it all is that people generally assume that common stock ownership will align shareholder interests; in the case of Mr. Ballmer, who owned 333 million shares (nearly 4% of the company) as of the most recent proxy filing, it appears that this has done little to persuade him to push for higher returns of excess cash to the owners of the business.

About the author:

The Science of Hitting

I'm a value investor, with a focus on patience; I look to buy great companies that are suffering from short term issues, and hope to load up when these opportunities present themselves (potentially over a period of years). As this would suggest, I run a fairly concentrated portfolio by most standards, usually with 8-10 names; from the perspective of a businessman rather than a market participant / stock trader, I believe this is more than sufficient diversification.

I hope to own a collection of great businesses; to ever sell one, I would demand a substantial premium to the average market valuation due to what I believe are the understated benefits to the long term investor of superior fundamentals and time on intrinsic value. I don't have a target when I purchase a stock; my goal is to replicate the underlying returns of the business in question - which if I've done my job properly, should be very attractive over many years.

Comments

My understanding of the problem is that most of that cash is overseas so to pay dividends from it, it would have to be repatriated and taxed. The domestic cash reserves are shrinking or at least not growing as quickly.

That's why debt should be issued and the proceeds used for share repurchase. It's a way of working around the tax on repatriation. MSFT can issue debt at very low interest rates because of their net cash position.

Aagold is dead right; debt issuance is a viable alternative, one that Microsoft has only scratched the surface on. I think return to shareholders should be $15-20 billion per year at least, based on current FCF levels - and think that a big buyback ($10B or so) is the best way to do that (though I would not be opposed to a beefed up dividend policy either).

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